TOKYO (Reuters) - A Japanese court on Thursday acquitted former ruling party chief Ichiro Ozawa of violating political funding laws, allowing the veteran politician to return to his familiar role of being a thorn in the side of the prime minister.

The verdict by a Tokyo district court will likely add to Prime Minister Yoshihiko Noda's struggle to preserve party unity and push through a contentious sales tax hike plan that Ozawa and his faction in the party fiercely oppose.

Ozawa, 69, whose mastery of backroom deals cut during his four-decade political career earned him nicknames of "Prince of Darkness" and "Shadow Shogun," has suffered a series of setbacks in the past few years.

But he still leads the biggest faction within the ruling Democratic Party and continues to galvanise voters: some admiring him for his knack of shaking things up and others detesting him as a symbol of old-school pork-barrel politics.

All major TV channels broke into their regular programmes with the news on the verdict and the Yomiuri Shimbun newspaper published an extra afternoon supplement with the news.

Dozens of his supporters cheered outside the courthouse, carrying placards with his picture on one side and a sign saying "Innocent" on the other.

"I pay my respects to the court for showing common sense and justice, and I thank my comrades and people across the country for supporting me up to today," Ozawa said in a statement.

Analysts say the threat of an early election may prevent Ozawa's backers from revolting against the prime minister, and that the fate of the tax bill rests primarily with the opposition which controls the parliament's upper house.

Markets showed little reaction to the verdict, but bond investors will be watching Ozawa's next steps for any signs that infighting among the ruling Democrats could further delay budget reforms needed to contain Japan's snowballing debt.

"One risk scenario for the government bond market is that Ozawa would try to take down Noda and if that's the case, it could be negative for the market, but it's still early to price in this risk scenario," said Naomi Hasegawa, a senior fixed-income strategist at Mitsubishi UFJ Morgan Stanley Securities Co.

NINE LIVES

Throughout the six-month trial Ozawa has denied wrongdoing and prosecutors had originally decided not to charge him due to lack of evidence.

But a judicial panel of ordinary citizens ruled that he must face the charges, prompting his indictment in January 2011 under a system introduced as part of a 2009 judicial reform.

Three of Ozawa's ex-aides were found guilty last year in a case centred on accusations that a body handling his political funds misreported flows linked to a 2004 land deal worth millions of dollars. All are appealing.

But on Thursday, the court ruled that the prosecution, which sought a three-year prison sentence for Ozawa, lacked direct evidence of Ozawa's alleged conspiracy with his aides.

Prosecution lawyers said they were considering whether to appeal. They have two weeks to do so.

The man credited by many for orchestrating the Democrats' historic victory in a 2009 election lost a party leadership race in 2010 to then-prime minister Naoto Kan and in June failed to oust Kan in a no-confidence vote. Last year, a candidate backed by Ozawa to succeed Kan was defeated by Noda.

Many commentators, however, believe that he may no longer be capable of mounting an effective leadership challenge, one reason being the generational shift in his party and voter distaste for the old style politics he came to symbolise.

"Talk about a cat has nine lives. I don't know how many lives Ozawa has, but ever since 1990, he has been creating new parties, failing, creating another one, coming back, so forth and so on," Gerald Curtis, Columbia University professor and author of several books on Japanese politics, said on the eve of the verdict. "So he is not completely finished yet, but I think his leadership role is over."